SEC rule gives shareholders leverage

LOS ANGELES — A divided Securities and Exchange Commission approved a rule this month that could make it easier for shareholders to force out directors of underperforming companies.

With the change, a big shareholder can get its board nominees listed on a company-mailed proxy ballot alongside the candidates favored by management. Until now, shareholders had to go through a laborious and expensive process of sending their own mailings.

Backers of the SEC's action — including public pension funds, shareholder advocates, labor unions and some investment managers — said it would give shareholders more leverage to force changes at poorly performing companies and to put the brakes on runaway executive compensation.

But business interests said the move would give too much power to unions seeking bargaining leverage and to hedge funds seeking short-term profits.

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The rule, which will take effect in about two months, was approved by a 3-2 vote with the commission's Democratic majority — including Chairman Mary Schapiro — voting for it and the panel's two Republicans opposing it.

"This is groundbreaking for U.S. shareowners," said Ann Yerger, executive director of the Council of Institutional Investors. "Access to the proxy will invigorate board elections and make boards more responsive to shareowners and more vigilant in their oversight of companies."

The rule gives an investor or group of investors owning at least 3 percent of a company's stock for at least three years the right to place its candidates on the company's ballot. Smaller companies will be exempt from the rule for three years.

"As a matter of fairness and accountability, long-term significant shareholders should have a means of nominating candidates to the boards of the companies that they own," Schapiro said.

Many big companies objected to the change — arguing, among other things, that it could enable hedge funds to hold companies hostage for their own short-term gains.

"A highly leveraged corporate raider or hedge fund could easily propose a slate of directors focused on bleeding a company's balance sheet through the payment of special one-time dividends, to the detriment of job-creating investments," IBM chief executive Samuel Palmisano wrote in a letter to the SEC.

The U.S. Chamber of Commerce fought the rule, saying it would distract the management of companies with contested elections while benefiting labor unions in contract talks.

"This has been something at the top of the union agenda for the last 60 years," said Tom Quaadman, an official at the business group.

The giant California Public Employees' Retirement System and the California State Teachers' Retirement System were among the pension funds that backed the SEC's action.

"We commend the SEC for its thoughtful, fair rule," Rob Feckner, president of the CalPERS board, said in a statement, predicting that the rule "will be considered a win-win for business and investors."

Despite the concerns of opponents, some corporate lawyers said the rule would cause few problems.

"For most companies, at the end of the day it's not likely to be disruptive," said Michael Littenberg, a partner at New York law firm Schulte Roth & Zabel. "Most of them are not gravely concerned."

One reason for the lack of alarm is the stipulation that shareholders hold a stake of at least 3 percent in a company for at least three years before they can nominate candidates, said Walter Van Dorn, a partner at Sonnenschein Nath & Rosenthal in New York.

"That's a lot of stock and a lot of money," he said. "You'd have to be a pretty serious shareholder to begin with."